In keeping with the overall financial theme of the blog, we strive to keep our investments as simple as possible. Simple is not only easier, it is more effective. The most complex portfolio I suggest consists of only three funds invested in stocks, bonds and REITS (Real Estate Investment Trusts), plus cash.

Most advisors recommend far more funds and asset classes. Indeed, scared witless after the recent market implosion, many would now have us invest in everything in the hopes a couple of those puppies pull thru. To do this properly would require a ton of work understanding the asset classes, deciding on percents for each, choosing how to own them, rebalancing and tracking. All for what will likely be sub-par performance.

We talked about this in Part I and we’ve looked at better alternatives throughout the series.

Still, for some, even my three fundWealth Preservation and Building Portfolio seems incomplete. The readers of jlcollinsnh are an astute bunch and the missing asset class they ask about most frequently is International Stocks. Since almost every other allocation you come across will include International, why not the Simple Path? Three reasons. Added risk, added expense and we’ve got it covered.

Added Risk:

Currency risk. When you own international companies they trade in the currency of their home country. Since those currencies fluctuate against the US dollar with International Funds there is this additional dimension of risk.

Accounting risk. Few countries, especially in emerging markets, offer the transparent accounting standards required here in the USA. Even here, companies like Enron occasionally cook their books and blow up on their investors. The weaker the regulation the greater the risk.

Added expense:

VTSAX has a .06 expense ratio for rock bottom costs. While cheaper than comparable funds, even low cost Vanguard International Funds have expense ratios at least three times that level.

We’ve got it covered:

With VTSAX you own 3277 companies, virtually every publicly traded company in the USA. More to the point, the largest of these are all international businesses, many of which generate 50% or more of their sales and profits overseas.

Since these companies provide solid access to the growth of world markets, while filtering out most of the additional risk, I don’t feel the need to invest further in international specific funds.

Your world view however may lead you to a different conclusion. If it does, and you feel the need for even more international exposure than that imbedded in VTSAX, our friends at Vanguard have some excellent options. Here are two I suggest:

If you prefer to keep things as simple as possible, look at VTWSX Total World Stock Index Fund (expense ratio .40). This fund invests all over the world, including 50% in the USA. With it you no longer even need to hold VTSAX.

It all depends on how much of the world you want and how comfortable you are with the cost in money and risk it takes to get it.

Addendum 1:

In rethinking my position on REITS, I came across a very interesting concept: International Stock Funds as both an inflation and deflation hedge. This might just give me a reason to add them. For a full discussion as to why please see: Stepping away from REITs

But here’s my reply in response to one of the questions in the comments on that post:

And as Paul points out international exposure “seems to correlate more and more with US performance.”

While the idea that being invested in other countries provides a hedge against inflation/deflation in the US is very intriguing, it occurs to me that the US is such a massive portion of the world economy that were it to enter either of these spirals the rest of the world would be sucked right along.

So, for now, simplicity wins and I’ll do without international.

That said, I don’t think they are a bad idea and for those who like them they can certainly be a part of a Simple Path to Wealth portfolio. If I were to add them to mine they’d be 25% along with 25% bonds and 50% VTSAX.

Further, for non-US investors, I’d say investing outside their home countries is an essential idea and the added inflation/deflation hedge very real.

The ETF version holds exactly the same portfolio as the Investor Shares Fund, but with the lower expense ratio of .22 vs. .40. Unfortunately, as they have still lower expense ratios, there is as yet no Admiral Shares version.

The traditional problem with ETFs is that they are bought and sold just like stocks with the commissions that includes. But that’s changing.

I believe the usual intl fund recommended in the Vanguard 3 fund portfolio is VTIAX – Vanguard Total International Fund (Admiral shares)… expense ratio is 0.18. It says it has 8.6% North American stocks, which I assume is Canada. I really can’t decide how much intl I want… I agree with your argument above, but then I worry about putting all my eggs in the US stock market basket. Still pondering the question.

My feeling is that if your portfolio includes VTSAX you don’t need that additional 8.6%. VFWAX seems a better fit.

If you are not including VTSAX, and you want one fund that gives you the whole world, I’m more comfortable with VTWSX and its 52% in North America. Seems a better balance of coverage based on the relative size of the various countries’ economies.

Currently my whole portfolio is an approximation of VTSAX (my 401K does not offer VTSAX, so I have cobbled together the approximate corresponding percentages of VIIIX, VMCIX, and VEXRX which are large cap, mid cap and small cap US stocks). So far this is working great for me, but I have been pondering the international question… I guess if I don’t have a strong feeling in favor of the international, I can just leave well enough alone. It hasn’t been doing that great lately so that is making it easier for me to just leave it out…

Yes I had that thought as well. (buy low and hope it goes up later) We do have a very odd assortment of funds in my 401K…they do offer the VG target funds though, so I assume they figure if you want VG total stock/total bond/total intl you can just invest in one of those. But I prefer the 0.02 expense ratio of VIIIX (which is the largest portion of the portfolio).

I am not sure if you still check these old conversations or not but…I was wondering if you could tell me where you found the distributions for VTSAX? My company offers VIGSX and VISGX (small and large cap), but not VTSAX, and I would like to use these together to try to put together a package like Tara has done. Unfortunately, I can’t seem to find the percentages of each to use. Thanks for your help….this is an excellent series.

Yes, I meant allocations. I am still learning all the correct terminology. Thank you for your help, that is exactly what I was hoping for. So, if I have only the large cap and small cap to work with, would you recommend just using those two, or bringing in a third (non-vanguard) fund to make up for my loss of a mid cap fund? My 401K is in a (shady) high fee company, and I don’t really like having my money in their target funds, which is where I have it now.

Sort of off topic, but…I’m having trouble figuring out the difference between VTSAX and VITSX. Their top holdings are the same, they’re both broad indexes. I only ask because this is the only Vanguard fund I can acquire through my 401k.

I agree with you. Most American fortune companies benefit most with global expansion. For example, Apple and Google and even Price Line are all getting sizable revenue from their international markets. Even good ole’ MCD is getting more revenue growth from foreign countries. So, why not invest in the best American fortune companies? It’s as good as or even better than risking your capital in foreign markets with currency and political risks.

Do you think it makes more sense to add an international component if you think you might live internationally at some point? My wife is from Northern Europe and her parents and brothers are still there. We don’t have any plans to move but it certainly seems possible that we might end up there.

It seems like it might make a bit more sense in out case, but I’m still invested in VASGX pretty much exclusively.

I love your simple and effective approach to investing. They called it the KISS method in the military (keep it simple stupid) At least that’s what the Drill Sgt. called it. It works on so many levels.

Does this advice also apply to bonds? I noticed that Vanguard now includes VTIBX (Total International Bond Index Fund) in most of their “all-in-one” funds.

I could see it going both ways: the added risks and expenses are still there for bonds, yet wouldn’t an international bond fund diversify one’s portfolio in a way that an international stock fund wouldn’t.

In other words, does the “we’ve got it covered” section in this article apply to bonds?

The difference is that the total bond fund is made up of US company issue bonds. So they are US bonds even if the companies have substantial overseas business revenue. To have exposure to the international bond markets, you really do need something like VTIBX.

Since I only hold bonds for the deflation hedge and, to a lesser extent, for the income I don’t feel the need for international.

Most often those buying international bonds are after higher yields. But remember, higher yields are also a barometer of higher risk.

Thanks! I already hold an international stock fund in addition to the ones you recommend (bringing my total number of funds up to a crazy unmanageable 5!), so I don’t want to make things more complicated.

Let’s play Devil’s Advocate. If international funds truly aren’t necessarily for a diversified portfolio, why do some many financial authors recommend them? What are their best selling points on why International stocks are necessary for a balanced portfolio?

1. There are some great companies based in countries other than the USA and international index funds are the way to own them. (This is the one that seems valid to me, but I’m unwilling to pay the higher ERs these funds have)
2. The USA is on a long term decline and I want some of my money outside that country. (I don’t happen to believe this, but for those that do…)
3. Other parts of the world offer greater growth potential than the USA. (but they are also more risky and volatile)
4. Other parts of the world offer less expensive stock valuations at the moment. (but choosing them and timing your entry and exit is the same losing game as individual stock picking)

More cynically:

1. International funds are very profitable for the companies that run and market them.
2. Some FI authors fall prey to this marketing. Some, especially investment advisors, profit from recommending them.
3. Many FI authors fail to understand the international exposure baked into a broad-based total US stock market index fund like VTSAX.
4. Many FI authors are sheep. They read others recommending international funds and jump on board with out doing their own thinking on the subject.

The management fee seems to be a little higher (0.33%) with an additional (0.22%) charge on the principal but it does have international diversification (which you mentioned in a previous article was a good thing) but I am not sure if a) such fund is comparable and b) if the higher management fees will be justified.

As you say, it seems that it is most commonly recommended to hold some International funds in your portfolio, but I think you point out some really good reasons as to why it might be desirable not to go that route.

I was thinking that there could be an additional benefit of holding both an international index fund and US index fund and re-balancing: it could help force both funds to be sold on the highs and bought on the lows (relative to each other).

But I suppose in the end, if the international fund doesn’t grow as much, the money that would be allocated for it could’ve grown more quickly in the US fund and could very well outweigh the benefit of the re-balancing.

And it sounds to me like you believe the US fund will grow more than the international fund anyway, and therefore it would be better to just put it all in a US index fund. (along with the 3 reasons you describe in the post of course).

That’s the concept behind holding different investments in an asset allocation: smooth the ride and enjoy the benefit of rebalancing. Bonds play that role for me these days, but international could too. Although some contend that international and US stocks are growing steadily more correlated, reducing this effect.

“Further, for non-US investors, I’d say investing outside their home countries is an essential idea and the added inflation/deflation hedge very real.”

This is probably my last comment before I actually take the plunge!

Jim, I know you are in favour of a US-centered aproach, but it does seem a bit silly for a non-US-based person to go all-in in a country when we never intend to live there, especially adding currency risks. I thought about doing 100% US Market but my finances being UK-based I decided to mix in 20% international funds (all my funds are from Vanguard UK – which is owned by Vanguard US). What do you think of this allocation, even though it is likely not to perform as well as 100% US (although we don’t know that)?

Just to clarify, I favor a US centric approach for those of us in the US. We live in a country with a major part of the world economy and investing in the US market gives us international corporations that benefit from the success of the rest of the world. Plus we get to do this all with funds that have dirt cheap ERs.

My concern for those readers in other countries is that their home markets are simply too small to provide the diversification I’d like to see.

Were I in that situation, I would look to one of Vanguard’s world funds that included the US market. They are more expensive than VTSAX, but not too bad. In fact, if costs were equal, this would be my first choice for US investors as well.

As for your allocation, I think it is just fine. It will track the US performance very closely and will outperform, or not, mostly depending on how the UK and Europe do in comparison. Who knows?

I hesitate a bit over the Japan fund, simply because of the .23% ER and the narrow country focus. Is there a broader Asia fund with a lower ER?

I did read the European post and comments in detail – they were very helpful, and I also posted a comment while I was still working out the allocation, but I didn’t get a reply that time.

The fund Mrs EconoWiser suggested, the All World fund, is available, but it’s an ETF at 0.25% (compared to the 0.08 – 0.23 of the individual funds). I should note that I also have to pay 0.25% platform fees on top whatever I do, so I prefer the funds route for now as there are no trading costs to buy more/rebalance, unlike with ETFs. There are fixed-free brokers available too with no percentage charge, but the stash is still modest enough for the percentage option to be cheaper for now.

Regarding Japan, there is a pacific-ex Japan fund available, also for 0.23%, so if I did that I’d probably need to combine it with the Japan fund. The higher cost and the sluggishness of Japan are the two reasons it’s only at 3% – but I thought you never know what will happen a decade from now! As you said it’s a shame there isn’t a combined one.

Your suggested allocations are interesting. I’ve got a few days for my funds to clear so I’ll ponder over them before coming to a decision. Thanks!

It focuses mainly on reducing ‘volatility’ rather than on increasing returns. The conclusion seems to be, as always, who knows? But 20-30% probably isn’t going to do you any harm and *may* smooth the ride. Interestingly they advise against 50% US Stocks because the costs involved of >50% international stocks outweigh the benefits.

Am I wrong to think that international funds (especially emerging markets) are riskier than US stocks and should therefore have higher returns over the long term? I would think the same thing of small cap funds compared to total US market funds. I know at least Vanguard ranks them a 5 instead of a 4 in terms of riskiness. Shouldn’t a young person who is planning to buy and hold for many decades target the most volatile yet diversified fund possible? Or is my assumption naive that the market rewards risk fairly?

I’ve never really looked at the comparative riskiness of International and Small Cap v. Total. My guess is that they are. But this doesn’t mean you’d enjoy outsized results as a reward for accepting their volatility. The market doesn’t necessarily reward this risk fairly.

The issue is that these sectors go in and out of favor. They can out-perform for years and then lag as long or longer.